M&G provides bond market outlook

Jim Leaviss, head of Retail Fixed Interest at M&G Investments, shares the M&G Fixed Interest team’s view on the outlook for bond markets

In the busy macroeconomic backdrop for global bond markets in recent months, huge stimulus programmes from the European Central Bank (ECB) and Bank of Japan (BoJ) have been among the biggest headlines. Both central banks were responding to the low growth and inflation outlooks in Europe and Japan, aggressively expanding their quantitative easing (QE) measures in ways that have important implications for bond investors.

Government bond yields have been compressed even further against the prospect of these central bank bond buying programmes. In Europe yields have even fallen into negative territory in the shorter dated segments of the German government bond market.

Expansive market stimulus positive for areas of bond markets

This environment is expected to provide a highly supportive technical driver towards other areas of the bond markets. The ‘big four’ central banks effectively represent a new and very sizeable investor class, with their massive combined balance sheets. Largely due to the ECB’s purchases, eurozone government bond markets face a particularly marked reduction of net supply in 2015. This should contribute to keeping yields low.

The amount of government bond assets whose yields have turned negative has also continued to rise steadily since last year’s fourth quarter. By late January this year, the total size of these assets had reached over $2.5trn (€2.4trn). The potential for investor outflows from these bonds should notably reinforce demand for riskier, positive-yielding assets including investment grade and high yield corporate bonds. In turn, this compelling technical factor should help to move credit spreads tighter.

Improving economy, good for credit

Looking at the fundamentals of the corporate bond asset class, corporate net leverage in both the US and Europe remains at levels that do not cause concern. In terms of the wider economic outlook, the US economy continues to strengthen, oil prices have collapsed, and the ECB’s looser monetary policy should stimulate the eurozone economy with a time lag, making concerns about recession and deflation in the region over-exaggerated. This makes such key macro themes provide reasonable grounds for optimism in weighing up global economic prospects for the year ahead. Helped by these conditions, corporate bond default rates should remain low.